I'm Putting Core Laboratories In The Penalty Box

Jul.22.14 | About: Core Laboratories (CLB)

Summary

CLB’s management has poorly communicated guidance to investors sending shares down over 20% since its first quarter report.

Despite lower expectations for the second quarter, I would wait till after earnings before establishing a position in the company.

Should management meet expectations and reaffirm its outlook for the year, I see the stock closing its gap on May 12th and trading back up to $190.

I have been a long time fan and trader in Core Laboratories (NYSE:CLB). However after management's debacle on first quarter earnings, I have been hesitant to own the shares. I will be sitting the upcoming second quarter earnings on the sidelines. I believe the stock has fallen enough where investors can start building a position, but I recommend doing so after the earnings are released for second quarter. Second quarter results are do or die in my book, as I am waiting for clear confirmation from management that it has its act together. Let's run through a brief summary of the company and the stock's performance since last quarter.

Fantastic Business

Core Labs operates three terrific business segments providing reservoir description, production enhancement, and reservoir management services to the oil and gas industry worldwide. Core Labs has been my favorite play in the oil services sector due to its industry leading margins and earnings growth. The company has been a consistent performer having grown revenue from $696 mil. in 2009 to $1,074 mil. in 2013 with EPS growing from $2.43 to $5.28 respectively. As such, investors have rewarded the company sending shares from the low 40's in 2009 to its 52-week high of $221.0 established in mid April this year.

First Quarter Below Expectations

With the stock trading near its 52-week high prior to first quarter earnings release, the expectations were extremely high for the company to beat and raise guidance. The company instead reported revenue of $263 mil. (1% y-o-y increase) and EPS of $1.38 (13% y-o-y increase), both of which were well below consensus street expectations.

The company also guided second quarter and full year below consensus. For the second quarter, Core Labs expects revenue between $280 to $286 mil. with an EPS range respectively of $1.48 to $1.53. For the full year, the company expects revenue to range between $1,155 mil. to $1,175 mil. with EPS of $6.00 to $6.25. Should Core Labs have kept these projections from its April 23rd press release, this would have represented 8% y-o-y revenue growth with 15% y-o-y EPS growth using the middle of the range.

Revised Second Quarter Guidance

It was not a surprise to see shares sell off 10% after the April 23rd press release. It was a classic case of consensus expectations getting overly optimistic and despite a solid first quarter number from the company; the expectations were just too high. What took me by surprise and spooked investors was a revision to guidance issued on May 12th, less than three weeks after the initial guidance above. On the May 12th press release, Core Labs guides expectations even lower for second quarter to $265 to $270 mil. with EPS of $1.32 to $1.35 and full year projected EPS of $5.80 to $6.00 on revenue of $1,100 mil. Investors reacted violently (and was justified to do so) sending shares down another 12% on top of the 10% move following first quarter earnings.

This was a major misstep on management's part and is simply inexcusable. Management provided the following rationale on their May 12th press release, "Core Laboratories recorded April 2014 operating results below those of March 2014, the Company's second most profitable March ever, precipitating new second quarter and full year 2014 earnings per share guidance. The Company had used encouraging March results, following the weather affected results from February, and improving North American activity levels, in general, to set prior second quarter 2014 guidance and to maintain its prior full year EPS guidance."

To be quite frank, I find this rationale completely bogus. There was only a three-week window between the two press releases and considering the first press release was sent out April 23rd (2/3rds of April already completed), I would assume that management had a grasp of what April would look like. Why not just increase the range of the guidance to begin with and save from having to send out a second press release? This would make management look much more competent and I believe the reaction from investors would have been less unnerving.

Recommendation

Management has failed in properly communicating guidance to investors. As such, I cannot recommend buying shares of Core Labs in advance of second quarter earnings despite lower expectations this time around and multiple secular growth drivers behind the company. I need management to show me that they can still perform by meeting their revised second quarter guidance and reaffirming full year outlook before putting any capital to risk. Should this case play out for second quarter, look for the stock to close its gap on May 12th and move back up to $190 fairly quickly.

Disclosure: The author has no positions in any stocks mentioned, but may initiate a long position in CLB over the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.